Category Archives: Theory/research

Ownership, loss aversion, the endowment effect, and lava lamps

Do you ever see things for sale on eBay with prices that seem astonishingly unrealistic? I get daily emails of newly listed items containing my saved search terms and sometimes the prices are just ridiculously optimistic. Not only that, but the items turn up again and again and again, re-listed and re-listed and re-listed, often at the same price. I know that some of the items will be from consignment sellers who have probably agreed with a client on a set price and to re-list indefinitely until the item sells, but a lot of the listings are just from individuals clearing out their homes and offloading the things they don’t want any more. Just sometimes at prices so high that the items never sell.

What might be responsible for some of these crazy prices is the endowment effect, a psychological phenomenon in which people typically demand a lot more in order to relinquish an item they already own than they would be willing to pay for the item if they didn’t already own it.

In the classic study of the endowment effect by Daniel Kahneman and colleagues, research participants were given a mug and were then offered the opportunity to sell it or to trade it for something of equal monetary value. However, once the participants were given ownership of the mug and felt like it was theirs, they typically expected twice as much money in order to be willing to part with it than they were willing to pay for the mug when they didn’t own it. So when they don’t own the mug, maybe they think it’s worth $5, but when they do own the mug, they expect someone to pay them $10 for it.

One explanation for the endowment effect is loss aversion – owners of items expect the pain of relinquishing the items to be greater than the enjoyment of acquiring the items, so they need extra financial compensation to soften the blow of parting with the item. However, an alternative explanation is related simply to ownership and the possibility that owners might associate the items with themselves, so they are reluctant to part with an item because of this personal connection – not necessarily because they expect to feel any pain from the loss.

Morewedge and colleagues investigated the endowment effect in terms of the loss aversion account versus the ownership account, to see which was more likely to be the real explanation. The problem, of course, is the fact that sellers are usually owners, so even if you just want to look at whether loss aversion occurs when someone considers selling an item, you’re kind of incidentally looking at ownership to some extent too. You need to add some extra factors in to get a clear picture of what’s going on.

Firstly, what if you create a new type of person – someone who’s a buyer but also an owner? Does such a person, i.e. one who is selling a mug but also happens to own another identical mug that they aren’t selling, behave more like a owner-seller (because they are an owner too) or more like a non-owning-buyer (because they are a buyer as well)? The researchers found that owning a mug actually resulted in buyers valuing the mug as much as sellers, which suggests that the high value that sellers place on the mug isn’t because of loss aversion – for instance, a seller might think a mug is worth $10, but someone who wants to buy that mug and already owns an identical mug also thinks the mug is worth $10. It appears to be the ownership that increases the mug’s perceived value; it can’t be loss aversion, since the buyer isn’t losing the mug.

Another clever way to tease apart the issue of loss aversion vs. ownership is to introduce additional parties – brokers who do the bargaining and dealing on behalf of the buyers and sellers. The researchers got some of the research participants to act as brokers to do a deal (on mugs again) on behalf of clients, so these brokers were buying or selling a mug without owning it. The researchers also gave some of the brokers identical mugs to the ones they had to buy or sell, so some brokers were buying or selling a mug they didn’t own but they also happened to own an identical mug. If the loss aversion account of the endowment effect is true, then sellers’ brokers should value the mugs more than buyers’ brokers, since sellers’ brokers will see their client’s sale as a loss and buyers’ brokers will see their client’s sale as a gain. However, if the ownership account is true, then buyers’ brokers and sellers’ brokers should value the mug more when they themselves own identical mugs to the one being bought/sold, compared to if the brokers don’t themselves own identical mugs.

The results showed that, again, owning the mug was the key factor here, and that buyers’ and sellers’ brokers valued the mug that they were buying or selling more if they themselves owned an identical mug. Again, it looks like ownership is the key factor in how valued an item is, rather than loss aversion. So maybe when those items turn up on eBay with crazy prices attached, what we’re seeing is the price for someone to be willing to relinquish something they connect with themselves. You might say it’s a bit like severing a tiny part of their identity, hence the premium price placed on the act.

Also, I just want to congratulate the study’s authors for getting what is essentially an ode to lava lamps into their paper, questioning the very nature of the human connection to lava lamps in language so imbued with poetic imagery and faint melancholy:

“Because the people who own lava lamps demand more to give them up than the people who do not own lava lamps will pay to get them, deals go unmade and storage lockers remain filled with lava lamps that are destined never again to glow. [...] We do not know if people store their lava lamps because parting with them is such sweet sorrow, but we do know that they store them because they like them and that they like them because they’re theirs.”

The value of ethical appearances

Following up to my previous post, it’s important to consider what motivates a brand or company to want to be perceived by consumers as ethical. As nicely summed up in this paper, “morality has become an important factor for corporate brands, and an increasing number of companies are using the ethical dimension as a strategic element in terms of defining and promoting their brands”. You might think that it ultimately might not matter how ethical a company is or seems, since consumers are happy to say they want to buy ethically produced items but then don’t actually do so in practice. In light of that, you might think that a company that acts ethically might be choosing to act ethically because they really do wish to act ethically. Some [likely smaller] companies probably do conduct their business according to that sentiment (or were even founded with that sentiment in mind). But enormous international companies with shareholders to please and profits to maintain and extensive expansions to undertake? It’s probably going to be a bit more complicated.

Such a company might be motivated to pursue more ethical practices because it actually works out cheaper for them, which could be considered a not particularly virtuous win/win situation. For example, a company that decreases its energy costs per square metre of store space is decreasing its carbon footprint per square metre of store space (which, on the face of it, seems ethical), but more efficient energy measures also mean decreased energy consumption and decreased energy costs. So it might not be an entirely altruistic effort with only the good of the planet in mind, but ultimately some good comes of it.

But another more subtle factor to consider is what such a company stands to gain from appearing ethical to consumers (whether it’s through genuinely engaging in ethical practices or only making superficial efforts to seem ethical, or a mixture of both). What’s in it for the company?

Being perceived as ethical increases brand loyalty

A company that successfully portrays itself as being sustainable engenders increased brand trust and more positive brand affect (i.e. consumers’ feelings towards the brand), and these result in greater brand loyalty. Increasing these things likely results in increased patronage and increased profits. Quoting from the paper ‘Does Having an Ethical Brand Matter? The Influence of Consumer Perceived Ethicality on Trust, Affect and Loyalty’:

“…this research sheds light on one of the main concerns of marketing managers worldwide: do investments in CSR [corporate social responsibility] and ethics pay off at the corporate level? Of course, brands should behave ethically independently of the potential impact of such behavior on the bottom line. Moreover, in a connected world that has made brands more transparent, truly ethical behavior will be necessary to succeed in any marketplace. However, the findings of this research suggest that CPE [consumer perceived ethicality] positively impacts the product brand loyalty, and so can help facilitate customer retention, secure future purchases, and foster recommendation.”

So securing brand loyalty by being (or seeming) ethical pays off.

Consumers do pay attention to unethical behaviour

Despite that gap between ethical purchasing intentions and actual purchasing behaviour, consumers do have a reasonably complex awareness of potential ethical issues that might be associated with brands. As reported in the paper ‘Exploring origins of ethical company/brand perceptions — A consumer perspective of corporate ethics’, surveyed participants thought of issues in 36 different sub-categories that could describe possible ways that a company could act that would affect its ethical image: pollution, exploitation of labour, supporting questionable political regimes, involvement with charities, animal protection, pushing competitors out of business, fair trade involvement, corruption/bribery, sustainable farming, corporate travel policies and intellectual rights, among others. Given that consumers are becoming increasingly aware of these issues, brands need to make efforts to avoid being seen as unethical, as “often, unethical perceptions are at the root of a faltering company/brand image and reputation, with a potentially detrimental effect on consumer attitudes and purchase behavior following in its wake”. Especially since other research suggests that as consumer ethical awareness increases, that gap between purchase intentions and purchase behaviour will close.

Modelling the data shows that sustainable efforts improve profits

Depending on other assorted factors (such as customer satisfaction and brand innovativeness), sustainability efforts could increase profits. As reported in the paper ‘Corporate social responsibility, customer satisfaction, and market value’:

“Our finding that CSR [corporate social responsibility] contributes positively to market value suggests that managers can obtain competitive advantages and reap more financial benefits by investing in CSR. To be more specific, we calculated that for a typical company in our sample with an average market value of approximately $48 billion, one unit increase of CSR ratings would result in approximately $17 million more profits on average in subsequent years, a substantial increase of financial return”

In general, this is all something to keep in mind when considering your perception of a company that is positioning itself as ethical. It’s important to critically evaluate the information that is presented by a company about its ethical position. This is even more important given what I’ve said above because companies would have a vested interest in seeming ethical rather than being ethical, since successfully creating an image of being ethical could have financial benefits. You need to be able to critically evaluate the information that’s presented if you’re going to know whether a particular “ethical” initiative is a genuine effort or just lip service, otherwise you can’t assemble a clear idea of your position on a company nor make an informed decision regarding whether to be one of its customers.

How setting a budget can unhelpfully influence your decisions

It is generally accepted that, when you go out shopping for something, having a budget in mind is a very good idea. It’s not the amount you’re absolutely, stringently limited to – not like your limit is $50 because you only have $50 in your bank account – but it’s the amount that you are willing to pay for what you want, various factors considered. It might be an absolute maximum (e.g. nothing above $100) or it might be a general target range (e.g. something around $20-30), but either way, you’re using a self-imposed price restraint to limit what you spend.

Counter-intuitively, it seems that that sort of approach actually seems to increase what you spend. In the paper ‘When budgeting backfires: How self-imposed price restraints can increase spending’ (2012), authors Larson and Hamilton report that across six experiments they consistently found that self-imposing a budget when making a purchase decision caused people to have an increased preference for higher-priced items, regardless of whether the budget was an absolute maximum or a general target range.

It seems that imposing a price restraint draws your attention to that general price range and you tend to ignore items whose prices are too far away from the value you’ve decided on. For example, you might say you don’t want to pay more than $100 for a pair of jeans. However, setting that maximum price restraint causes you to ignore the options with considerably lower prices, so you might ignore a $60 pair of jeans, whereas if you hadn’t set a budget you might have considered the $60 pair (and they might have turned out to be exactly what you wanted). Just by setting a budget, you’re putting blinkers on and only paying attention to a restricted range of items that are reasonably close to your price restraint. Unfortunately, this restricted range of items then goes on to warp your judgement of the items’ prices and quality.

The experiments showed that there was a scaling effect on perceived quality of that more restricted range of items, because when you restrict your appraisal to a smaller range with less context, it makes the differences between the items in that small range seem bigger. The consequence of this is that the lowest quality item suddenly seems much more low quality than it otherwise would have, and that in turn leads you to prefer the higher quality items in your small range. And what does higher quality mean? Somewhat loosely and generally, it means higher prices. (And it is rather loosely and generally true, if that graph I’ve previously posted is anything to go by).

The selection of that small range of items also means that prices become less meaningful. If you’ve set your budget to $100, and you’ve ended up with several pairs of jeans to choose from that are all in the $90-100 price range, then the price isn’t going to make much difference. You’re going to be paying around $100, give or take a bit, so price isn’t particularly informative for making that decision – no single price is that radically different from your initial budget of $100. As a result, you go back to making a decision, as best you can, based on quality. And as I said above, the differences in quality seem greater in that restricted range of items, and you end up preferring the better quality items, which on average means higher prices.

As always, there are a lot of other factors to consider (how well a person can evaluate quality, how much emphasis a person places on quality vs. aesthetic value, how well quality and price correlate in different groups of consumable goods such as clothes or food or electronics or furniture, etc). Still, it seems like a pretty robust finding – price restraints unfortunately seem to draw your attention to a higher price range and then distort it while it’s there.

But how do you counteract the apparent “costs” of having a budget? Not having a budget doesn’t seem like a better alternative to having a budget, but as the authors of the paper speculate, there’s a wider context of budgeting that’s more encouraging. If you plan your spending in general, keep track of your earnings and expenditures, and engage in some thoughtful and practical budget-planning and monitoring, you’ll probably still come out on top, regardless of a pair of slightly-more-expensive-than-necessary-or-intended jeans. Need some motivation/inspiration? Check out what Lin has to say about her approach to budgeting.

Implicit associations and brand preferences

The Implicit Association Test (IAT) is an intriguing thing. You might have heard of it, since Harvard has been running a pretty high-profile project using variations of the test for a while now, and the assortment of results certainly gives some food for thought from both psychological and sociological perspectives. The IAT is designed to test the associations that you make between things. These associations are implicit because they can even run contrary to your explicit opinions – they’re associations that your brain makes that you might not even be consciously aware of.

The overall idea is that when you have to process information about things that you implicitly don’t associate with each other, you’ll be slower at it than when you process information about things you do implicitly associate with each other. For example, you might be slower to respond to the word combination of “science/female” than to “science/male” because you might have the implicit association that science is more of a male thing. This doesn’t mean you’re a sexist and hold deeply ingrained discriminatory beliefs – it could easily be because of cultural and social influence that you’ve come to associate “science” with “male” more so than with “female”. You can be the world’s most super-informed, acutely passionate third-wave feminist and still have that implicit bias against “science/female”.

Anyway, the point is that using the IAT is a good way to understand what might be going on in people’s brains in a way that you couldn’t achieve just by asking “So how do you feel about this?”. (Disclaimer: there are plenty of caveats that go with using the IAT, which are more or less summed up here.)

As you might imagine, the test is pretty interesting to use in the consumer setting and it can present a novel view of how products or marketing or whatever might affect your implicit attitudes towards brands, behaviours, etc. That is something that Ratliff et al. investigated in their paper, ‘Does one bad apple(juice) spoil the bunch? Implicit attitudes toward one product transfer to other products by the same brand’. Ratliff and colleagues wanted to examine people’s attitudes towards products from the same brand, and how your attitude towards one product from a particular brand spills over to affect your attitude towards other products from that brand. In the first part of the study, the researchers wanted to check that you get this kind of spill-over effect, where having a positive attitude about one of the brand’s items positively affects your appraisal of other items from the same brand.

This was indeed the case – in the study, if people had a positive attitude towards a moisturising lotion of Brand A and a negative attitude towards a moisturing lotion of Brand B, and were then presented with totally neutral and equivalent descriptions of a deodorant from Brand A and a deodorant from Brand B, they of course preferred the Brand A deodorant, even though the information they had about the two deodorants was ostensibly identical. In this case there was implicit and explicit attitude transfer, with participants preferring the deodorant of the positively perceived brand both when tested with the IAT and when filling out a scale to rate how they felt about the deodorants.

But of course, we wouldn’t be evaluating that deodorant in a vacuum, so to speak – we usually have some degree of positive or negative information about a product already, like whether it contains ingredients we’d prefer to avoid or whether its quality doesn’t seem all that great or whether it ticks all the boxes we want it to. So what happens when you like one product from a brand, and then have to evaluate another product, which either seems good or not so good? Does that pre-existing positive attitude about a brand’s product influence your evaluation of that other product? Does liking that one other item from the brand mean that you perhaps evaluate a bad product more positively than you otherwise would have?

To start with, participants read information about taste tests and were thus induced to have a positive attitude towards Brand A of apple juice and a negative attitude towards Brand B of apple juice. Participants then evaluated orange juices by these brands based on written descriptions of taste tests, the results of those taste tests being either positive or negative.

The results? When attitude to Brand A apple juice was positive, and then positive information about Brand A orange juice was presented (and negative information about Brand B orange juice was presented), participants explicitly preferred Brand A orange juice over Brand B. When attitude to Brand A apple juice was positive, but negative information about Brand A orange juice was presented (and positive information about Brand B orange juice was presented), participants explicitly preferred Brand B orange juice over Brand A. So even though Brand A’s apple juice was great, participants didn’t let it colour their appraisal of how Brand A’s orange juice was not good.

The interesting thing here is that these explicit preferences do not match up with participants’ implicit preferences. When attitude to Brand A apple juice was positive, and Brand A orange juice was presented as kind of bad (and Brand B orange juice as kind of good), people still implicitly preferred Brand A orange juice. Their attitude towards the apple juice was colouring their appraisal of the orange juice by the same brand, even though they seemed to know at a more explicit level that they shouldn’t let their judgement be swayed like that.

That’s the power of liking a brand’s product – to some extent, at some level below conscious awareness, your brain is still saying that the brand’s other products must be good, even in the face of negative information about those other products.

We can’t know from this study whether these implicit biases have particular consequences or behavioural outcomes (e.g. does having this implicit bias mean that people are more likely to actually buy the poorer product, or would the explicit attitudes prevail when it comes to making that purchase decision?) and there are plenty of other factors to consider when interpreting the results (e.g. the results might very likely be different if the participants formed their own attitudes rather than getting them by reading about other people’s opinions from taste tests). But it’s incredibly interesting to consider the extent to which we could be unconsciously influenced by brand preferences, regardless of other information that might provide a better basis for our judgement.